Generate more portfolio income in volatile times with these options strategies
September was a bumpy ride for stocks and bonds, but strategies using options can help investors generate a little more portfolio income. Last month, the S & P 500 slipped 0.5% as higher oil prices, rising Treasury yields and fear of more Federal Reserve rate hikes weighed on the market. In September, the 10-year Treasury yield also spiked to levels not seen in 19 years, while the 30-year yield topped 5.6%, the highest since 2002. An options strategy is no replacement for holding income-generating assets like bonds and dividend-paying stocks, but it can complement an already diversified portfolio. “We’re hearing people are uneasy about the stock market,” said Ashton Lawrence, certified financial planner and director at Mariner Wealth Advisors in Greenville, South Carolina. “We’re taking your current portfolio and trying to use options to generate additional cash flow, establish positions more deliberately and put some guardrails around risk,” he added. Covered calls For individuals seeking additional income, covered calls can be the ticket. “The initial way that people start implementing income strategies is with covered calls,” said Joe Mazzola, head trading strategist at Charles Schwab. A call option gives the holder the right to buy shares at a specified price by a certain date. With a covered call, the investor already owns the stock and sells a call option against it. If the stock stays below the strike price, the call option won’t be exercised and the investor gets to keep the premium – but that individual must be ready to part with the shares if the stock hits the strike price. “You could write some covered calls on stocks you already own, stocks in AI-tangential sectors that have appreciated greatly in the last couple of years,” said Mazzola. “You might be sitting in a range where you haven’t seen that upside push lately, and you could sell out-of-the-money calls to augment those returns.” There’s a catch for investors: If the stock rises to the strike price and goes on a tear, the investor will miss out on that upside potential. Cash-secured puts For investors who want to earn a little money while waiting to buy an ETF or a stock they’ve had their eye on, a cash-secured put might be the way to move. “I’m surprised to see the number of people who have a lot of money sitting in cash and in money markets,” said Lawrence. “It speaks to people’s uneasiness about getting into the market. Here’s how we can get paid to wait for that lower price point.” A put option is the right to sell a stock at a specified price by a set date. With a cash-secured put, the investor sells the put to another party and pockets the premium – but he must have cash set aside to buy the shares in the event the stock reaches the strike price. The stock you’re writing the put option against should be one that you’re happy to own, even in a rocky patch. “The key with the cash-secured put is to make sure this is a stock you want to own at that price,” said Mazzola. “You might get tested at that expiration cycle.” The risk for the investor is that the stock experiences a sharp drop – one that takes it well below the strike price. There’s also the possibility that if the stock rises but never slides below the strike price, you keep the premium but not the opportunity to buy the shares. Know what you own In the best of scenarios, options can help boost a portfolio’s performance, but there is an element of risk. “There are a variety of ways to generate income, and using options contracts you pick up some additional risk,” said Lawrence. “If you’re trying to do it yourself, understand what you’re doing and why you’re doing it.” “I view them like fire: You can use fire to heat your home and be comfortable, but you can use that same fire to burn down that home and have nothing left,” he added.
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